Chapter 9: Liability Flashcards
Acquisition of assets is financed from 2 sources
- Debt –> Funds from creditors
- Equity –> Funds from owners
A companies capital structure
- Debt is riskier than equity
- Debt payments are legal obligations
- Creditors can force bankruptcy
- Creditors can require sale of assets
Types of liabilities
- Current Liabilities –> Maturity in 1 year or less
- Non-Current Liabilities –> Maturity in more than 1 year
Trade payables / Accounts Payable
Obligations to pay for goods and services used in the basic operating activities of the business
Accrued Liabilities / Accrued Expenses
Obligations related to expenses that have been incurred but have not been paid at the end of the accounting period
Notes Payable
Obligations are due supported by a formal written contract
Deferred Revenues / Unearned Revenues
Obligations arising when cash is received prior to the related revenue being earned
Accrued Liabilities
Expenses that have been incurred before the end of an accounting period but have not yet been paid.
Accrued Liabilities Include
- Income taxes payable
- Taxes other than income taxes
- Payroll liabilities and employee deductions
Income taxes payable
Corporations must pay taxes on income from active business operations, property income, and capital gains arising from the sale of assets
Taxes other than income taxes
taxes such as HST/GST and PST are added to the sales price, collected from customers, and then remitted to federal and provincial governments
Payroll liabilities and Employee deductions
As personal income tax, EI, AND CPP are withheld from the employee’s gross earnings and the employee receives a pay cheque for the net pay.
Gross pay is deducted with…
- Canada pension plan
- Health taxes and premiums
- Federal and provincial income tax
- Employment insurance
- Voluntary deductions
The time value of money
Interest that is associated with the use of money over time
How does a note payable specifies the interest rate?
- To the lender, interest is a revenue
- To the borrower, interest is an expense
Interest = Principal x Interest Rate x Time
What is the current portion of long-term debt?
Any portion of a note payable that is due within one year, or the operating cycle, whichever is longer
Deferred revenues
- A company collects cash before the related revenue has been earned.
- Reported as liability
When the amount or timing of a liability is uncertain, it is referred to as…
A provision
When does a provision get recognized?
(1) An entity has a present obligation as a result of a past event
(2) It is probable that cash or other assets will be required to settle the obligation, and
(3) A reliable estimate can be made of the amount of the obligation
Provisions include:
- Estimated liabilities for warranties
- Legal and tax disputes
- Closing of stores or specific operations
Matching process for provisions require that…
the recognition of the estimated provision for warranty expense in the same period as the sale is recorded
What is a contingent liability?
Possible liability that is created as a result of a past event, and which or may not become a recorded liability, depending on future events.
Examples of a contingent liability
- Lawsuits
- Environmental problems
- Tax disputes
When the amount of liability can be estimated reliably…
- Provision must be recognized
- Disclosure of the provision is required
When the amount of liability cannot be estimated reliably…
- There is no need to recognize a provision
- Disclosure is required for the contingency
When there is a present obligation or a possible obligation that may, but probably will not, require an outflow of resources…
- There is no need to recognize a provision
- Disclosure is required for the contingency
When there is a present obligation or a possible obligation where the likelihood of an outflow of resources is remote…
- There is no need to recognize a provision
- Disclosure is not required
Under ASPE, what is the meaning of “Probable”?
- Probable has been defined as likely which is interpreted as a greater than 70% chance of occuring
Under IFRS, what is the meaning of “Probable”?
- Probable has been defined as more likely than not which would imply more than 50% chance of occurring
Reporting a contingency, ASPE vs IFRS.
- Companies under IFRS would record a liability
- Companies under ASPE would record a contingency
What is Working Capital?
Current Assets - Current Liabilities
Liquidity
Ability to pay current obligations
Working capital relationship to income-producing activities.
- A/R increase when sales are made on credit
- A/P Increase when inventory is purchased on credit
Quick Ratio
Quick assets / Current Liabilities
- High ratio suggests good liquidity
- Too high ratio suggests inefficient use of resources
Present Value Concepts (4 item of growth)
- Value of today (present value)
- Value in the future (future value)
- Interest rate
- The time period
Two types of cash flows can be involved
- Periodic payments called annuities
- A single payment
Present and future value tables are available for…
- Future value, single amount
- Present value, single amount
- Future value, annuity
- Present value, annuity
Present Value of a Single Amount
The present value of a single amount is the worth to you today of receiving that amount sometime in the future
